What a divided Fed means for investors

Wall Street has a clear takeaway from this week's Federal Reserve decision: A hike is likely on the horizon as inflation remains a top priority.

The Fed opted to hold interest rates steady at the second meeting led by Chairman Kevin Warsh. But between his commentary about inflation and the dissenting coalition of policymakers, investors are growing increasingly confident that the Fed's next move will be an increase.

While the hold was widely expected by markets, three policymakers broke with the committee's decision to instead call for higher rates at this week's meeting. That marked the highest number of members pushing for an increase since September 2016, according to Ian Lygen, head of U.S. rates strategy in the BMO Capital Markets.

Back in 2016, the Fed went on to keep rates unchanged at its next meeting in November with two dissenters. But by December of that year, the committee unanimously voted on a 25-basis-point increase.

“We're reading this as a Committee with vocal hawks but the majority is siding with Warsh,” Lygen wrote to clients on Wednesday.

Fed funds futures trading now suggests a more than 57% likelihood of a quarter-point increase at the September meeting, according to CME's FedWatch tool. About 53% of Kalshi traders predict that the Fed will hike rates, compared with 43% betting on another hold.

“For now, it's likely that market pricing for a hike has simply been pushed forward,” said Ellen Zentner, chief economic strategist for Morgan Stanley Wealth Management. “September remains a live meeting.”

Stephen Douglass, chief economist at NISA Investment Advisors, said the three members' dissentions could signal the Fed landed on a “hawkish hold.” Still, Douglass said he still expected the Fed's next move to be a cut in March of next year.

Fed watchers said the central bank will closely analyze upcoming inflation reports as the ongoing energy price shock threatens to push up readings. Warsh said the Fed was focused on getting inflation down to its preferred annual rate of 2% after years of hotter readings.

“You've heard this before, but we will deliver price stability,” Warsh said on Wednesday.

The problem: Getting there likely means policy tightening, according to DoubleLine Capital CEO Jeffrey Gundlach.

“If you really want to get to 2%, I think you have to raise interest rates,” Gundlach said Wednesday on CNBC's “Closing Bell.”